Credit scores are the linchpin of the consumer lending system — and they’re mostly focused on debt.
Banks need to have a way to measure the risk that customers will default on their loans so they can decide whether to lend, how much and at what interest rate. But the main financial behaviour credit scores pick up on is the ability to pay back debt. Usually, it doesn’t matter much whether you’ve never missed rent or have been dutifully squirrelling away money into your savings account.
That may be about to change. In the U.S., Fair Isaac Corp. (FICO), creator of North America’s widely used FICO score, is rolling out a so-called UltraFico score based on how cash flows in and out of customers’ chequing, savings and money market accounts. The company is planning to roll out the new score early next year.
By signing up through an app, Americans who agree to data collection from their bank accounts will get an UltraFICO score that could boost their FICO score. That could improve their chances to be approved for a loan or allow them to borrow at cheaper rates.
The company says seven out of 10 consumers who show average savings of $400 without going into overdraft for three months will see a credit score boost. It also estimates that 15 million consumers who currently don’t have a regular FICO score could get an UltraFICO score. The idea is that this could be a toehold on the credit score ladder for many people.
It isn’t clear how soon the UltraFico score will make it to Canada. Credit bureau Equifax Canada, which uses a number of FICO scores, told Global News it’s “too early to share specific details on new scores.” TransUnion did not return a request for comment.
But others are working on coming up with new ways to calculate customers’ credit default risk.
READ MORE: 3 things you probably didn’t know about your credit score
In Ontario, DUCA Credit Union is also trying to develop metrics for lending without using borrowing history.
One of its pilot programs targets Canadians with low credit scores. Through a partnership with fintech startup CacheFlow, the credit union is hoping to be able to lend to those with low credit using their cashflow data.
CacheFlow’s software for financial advisers creates a cashflow plan that, among other things, tells clients how much they can spend every month in order to achieve their savings or debt-repayment goals.
There are some obvious problems with the current system, which “rewards borrowing,” Hoyes said.
For example, current credit rating models recommend borrowers who use a low percentage of what they can take out on revolving credit accounts such as credit cards and lines of credit. This means that someone with three credit cards, each with a $10,000 limit and a $3,000 outstanding balance, may have a better credit score than someone earning the same income who has a $600 balance on one $1,000 card, Hoyes wrote in a blog post.
“That is ridiculous,” he said.
Relying on a record of cash transactions could be a good thing, he added, but the devil is in the details.
But Hoyes worries they could also encourage some to borrow too much too soon.
For young people and those new to Canada and its financial system, it might not be a bad idea to be able to borrow only small amounts at first.
“If you don’t pay off your $500 credit card, that will rarely be financially fatal,” he said. Missing payments on a mortgage would be a much more serious mistake.
“I can see how (the new system) could help some people but also hurt others,” Hoyes said.
For his part, DUCA’s Conick says he’s determined to stay on the right side of that fork in the road.
“What I don’t want to get us involved in is finding a much better mouse trap to assess risk and provide credit that can be abused,” he said. https://globalnews.ca/news/4645142/new-credit-scores-fico-duca-canada/